Editors' note: This guest post comes to The Bilerico Project courtesy of Exception Magazine. Liz Towne is General Counsel and Director of Advocacy Programs at Alliance for Justice, a coalition of public interest organizations which provides free technical assistance on legal issues related to nonprofit and foundation advocacy.
As the passage of Proposition 8 continues to energize advocates on both sides of the political spectrum, many who opposed the initiative have questioned whether the Mormon Church, officially known as the Church of Jesus Christ of Latter-Day Saints (LDS), violated federal tax law through their efforts to support the constitutional amendment which effectively banned same-sex marriage in California.
To be clear at the outset, no one outside of the Internal Revenue Service (IRS) can accurately answer this question. The IRS is the ultimate arbiter of whether or not LDS violated their tax-exempt status. While it remains uncertain whether or not the IRS will pursue any course of action relating to LDS' involvement in the passage of Proposition 8, let us consider the law governing its activity and the inherent roadblocks to IRS action against LDS or any other church.
501(c)(3) Lobbying Laws
We begin with the very simple fact that any 501(c)(3) tax-exempt public charity organization, which includes churches, can engage in a limited amount of lobbying activity. For tax law purposes, the IRS considers any work drafting, supporting or opposing ballot measures to be lobbying activity. Think of it this way--whenever ballot initiatives, referenda, state constitutional amendments, or bond measures are placed on the ballot, the voting public essentially takes on the role of "legislator," and therefore any attempts to sway the voting public on a ballot measure are counted as direct lobbying activities, not partisan election-related advocacy, which churches and other 501(c)(3) organizations are strictly forbidden from engaging in. The LDS and any other interested 501(c)(3) public charity can actively participate in ballot measure activities provided they do not exceed their lobbying limits set forth by section 501(c) of the Internal Revenue Code.
Lobbying limits are based on one of two tests that the IRS uses to measure public charity lobbying: the insubstantial part test and the 501(h) expenditure test. While most public charities can choose between the two tests, churches, such as LDS, by law must measure their lobbying under the insubstantial part test. This test states that an organization may engage in an insubstantial amount of lobbying activity, however, the IRS does not define the difference between substantial and insubstantial. In other words, there is no known line in the sand that delineates the difference between a permissible insubstantial amount of lobbying and an impermissible substantial amount of lobbying.
Most tax practitioners who represent clients that measure their lobbying under the insubstantial part test recommend that these organizations restrict their lobbying activity to something less than 5% of the organization's overall activity. That guidance is the legal community's best guess as to what constitutes "insubstantial." The only way LDS, or any other organization measuring its lobbying under the insubstantial part test would know if they had violated (or were within) their lobbying limits is if they have been audited by the IRS.
The Church Tax Inquiry
The IRS has a special audit procedure for churches called a Church Tax Inquiry. This investigative process is designed to respect the freedom of religion guaranteed in the first amendment. It determines how and when the IRS may conduct civil tax inquiries and examinations (or audits) of churches.
The IRS may only initiate a Church Tax Inquiry (CTI) if the Director of Exempt Organizations reasonably believes, based on the facts and circumstances of the supposed violation, that the organization: (a) may not qualify for tax-exempt status; or (b) may not be paying tax on unrelated business or other taxable income. Under the first circumstance, some of the reasons a church may not qualify for exemption include engaging in a substantial amount of lobbying, intervening in any political campaign in support or opposition of a candidate for public office, and self-dealing, among others. With respect to the question at hand, if the IRS was to initiate a CTI against LDS, the question would then be did they engage in a substantial amount of lobbying activity through their efforts that supported Proposition 8? If they did engage in a substantial amount of lobbying, the penalty is either an excise tax and/or possible loss of tax-exempt status. Unless the activity is grossly egregious, most one-time offenses result in an excise tax rather then the more extreme revocation of tax-exempt status.
The CTI process allows the church to initially address the issue without having to produce any documents. After the reasonable belief of violation has been determined, the IRS sends a written notice to the church explaining their concern. The church is then allowed a reasonable amount of time to respond in writing to the IRS's concerns. If the church fails to respond within this time period, the IRS issues a second notice detailing the documents collected or prepared by the IRS for use in the audit and asks the church if they may review its books and records. Before any examination of books and records takes place, the church may request a conference with the IRS to resolve the concerns raised in the inquiry. Should an audit go forward, it must occur within two years from the date of the second notice.
The CTI process must be strictly adhered to by the IRS. Most recently, the IRS suffered embarrassment when it pursued an audit of the Living Word Christian Center, in Brooklyn Park, MN. The church was able, at least temporarily, to stop the audit process by arguing that the IRS had violated the CTI process. In the past, the law required that the lowest level IRS employee who can find reasonable belief to start the inquiry is a regional commissioner, one level of authority below the IRS Commissioner. However, in a reorganization move in 1998 the IRS eliminated the regional commissioner position and gave the authority for CTI reasonable belief to the Director of Examinations for Tax-Exempt Organizations, four management levels below the IRS Commissioner. That authority was designated without any formal rulemaking process.
The U.S. Magistrate in the Living Word Christian Center case determined that the IRS violated the law because the letter from the IRS initiating the CTI could only legally come from the IRS Commissioner. Inevitably, until this case is overturned, or more likely, until the IRS issues a rulemaking properly designating the authority for CTI reasonable belief into another designee, this will be the first line of defense for any church similarly facing an audit. The IRS is therefore hamstrung to move against any church for any violation until it resolves this issue.
Will the IRS Audit the Mormon Church?
Will the IRS pursue an audit of LDS for their efforts around Proposition 8? Only they know the answer to that question, but in summary here are the roadblocks to that possibility:
- The only logical violation is that LDS exceeded its lobbying limit supporting proposition 8, a limit based on some undefined and much litigated difference between substantial and insubstantial lobbying.
- The IRS would essentially need a confession from LDS to determine that LDS engaged in substantial lobbying. Unlike other public charities, churches are not required to file an IRS Form 990 annual information return with the IRS detailing, among other things, their lobbying activities.
- The IRS Commissioner, who according to the decision in Living Word Church is the only person vested with such authority, must find reasonable belief that LDS no longer qualifies for its exemption. On the heels of a very embarrassing loss in MN, the IRS would at best act extremely cautiously in considering to pursue a Church Tax Inquiry or at worst lack the willpower to pursue LDS given its current procedural quagmire.
- Even if the IRS were to pursue a Church Tax Inquiry against LDS, loss of tax-exempt status is generally reserved for egregious offenses. A one-time offense would likely result in an excise tax.
- If the IRS felt LDS acted egregiously and revoked their tax-exempt status, LDS would merely have to act in a charitable way to be automatically reconsidered as a tax-exempt organization. Case in point--Branch Ministries. After losing its tax-exempt status following a particularly large-scale violation of the ban on opposing candidates for public office, the IRS later admitted in oral arguments that the revocation of tax-exempt status was more "symbolic than substantial," and "If the Church does not intervene in future political campaigns, it may hold itself out as a 501(c)(3) organization and receive all of the benefits of that status." As mentioned earlier, churches that meet the requirements of IRC section 501(c)(3) are automatically considered tax-exempt and are not required to apply for and obtain recognition of tax-exempt status from the IRS.
- From a resource standpoint, this is the penultimate Sampson and Goliath. As of September 30, 2007, the IRS reported that out of a total of 1,789,554 tax-exempt organizations, 63% or 1,128,367 of these were charities and private foundations. This represents a 73% increase of charities and foundations since 1996. Meanwhile, staffing levels within the Tax Exempt and Governmental Entities division at the IRS have remained unchanged (2,075 in 1974 versus 2,122 in 2004). LDS is financially poised to defend itself against an audit being conducted by an understaffed and overwhelmed governmental oversight agency.
While the First Amendment guarantees the rights of churches and other nonprofits to engage in lobbying activities, the IRS must unequivocally ensure that all 501(c)(3) organizations qualify for the benefits of their exempt status. Perhaps the best possible outcome of this issue would be clear guidance from the IRS on the difference between "substantial" and "insubstantial" lobbying for organizations which measure their lobbying under the insubstantial part test.
We hope that when this issue is revisited (which it undoubtedly will be), supporters of social justice will be prepared to seize the initiative with the same energy and determination exhibited on November 5 and the days and weeks following.